Disposal of obsolete or dead Stock and SCMluxe

Obsolete stock or dead stock is the bane of all supply chains and traditional industries have evolved innovative ways of dealing with this. In this article we’ll discuss what is to be done with existing obsolete stock and not on ways to reduce it.

Obsolete stock?

Obsolete stock is managed in traditional supply chains by:

1.       Disposing off vide discount sales

2.       Refurbishment (seen especially in home electronics industries)

3.       Stripping and recycling parts of the product to recover as much value as possible

4.       Lastly responsible disposal (landfill, incinerators etc)

In SCMluxe these options don’t really work:

1.       Discounts or Sales: No discount or sales offered in the luxe industry since this will affect the brand and the more loyal customers

2.       Refurbishment: This would mean that the quality of the product was not of the highest level earlier, again a violation of a luxe product’s positioning

3.       Stripping for parts and recycling: Gives raise to fears of counterfeiting and brand logo/recognition appearing on non-luxe products

The only option left to most luxe houses is then to dispose off obsolete stock in landfills or incinerators. Another method is to donate obsolete stock to a carefully controlled but worthwhile cause which might result in some publicity as well as disposal of stock. Are there any other ways or strategies that luxury houses use to dispose dead stock? Do let me know….

Centralization as a key to visibility and profits

The key feature of the retail industry and luxury goods in particular is the large variation and seasonality of sales. This seasonality is compounded by the high number of SKUs and the turn over in these SKUs by season and geography. Fashion apparel is a stark example of this with last seasons’ fashion quickly becoming obsolete or dead stock. Similarly product variations by geography (smaller clothes sizes in Japan vis a vis Western markets) pose a problem in fulfilment as well as losses from excess inventory or stock outs.

This variation and seasonality leads to the well known bull whip effect wherein standard demand with only small variations in demand at the retail or point of sale grows into large variations as demand moves upstream into the supply chain (distributors, wholesalers, aggregators etc).  This ultimately results in supply chain inefficiencies of excess stocks/ stock outs growing as we move more and more upstream.

The Dunhill experience in centralisation

A selection of  SKU variations for a single product

Dunhill had a similar problem wherein small variations in demand at retailers magnified as the demand moved upstream. With over 30% of sales coming in from its wholesalers, the variation of demand at wholesalers was far more than that at the retailers end.  Some of the problems experienced by Dunhill other than stocking and storage was the complete lack of visibility of inventory across all stocking locations. With sales spread across 120 retail stores worldwide, this posed a huge logistical problem in fulfilling demand in an efficient (both in cost and lead times) manner. A strategy adopted by Dunhill to address this was “Centralization”. This included:

·         Centralisation of distribution – One distribution centre in Paris to service the US and European market and one distribution centre in Hong Kong to cater to the APAC market

·         Centralisation of merchandise planning and inventory management operations

This has resulted in increased profitability (“up 5% since implementation of centralisation initiatives launched” as per Rachel Brain, Merchandise Director), reduced inventory levels, lower dead stock and improved supply chain agility.

Taking back distribution: Balancing investment with returns

Licensing has always been a strong channel of distribution especially for the fact that it takes very little upfront investment (Refer: Outsourcing and SCMluxe). However we have seen from recent developments that "true luxury" firms prefer to keep control of distribution due to reasons of control and quality ....and preventing counterfeits (Refer: Licensing and Counterfeits). But taking back distribution or licensing agreements involves capital investment to set up distribution channels or buy out licensing agreements. The benefits of taking back distribution or buying out licenses are manifold:

1. Better control of quality and brand messaging
2. Control over volumes in the market and less fear of market flooding and dilution of "desirability" of brand
3. No fear of counterfeiting and non-authorised sale of products in less desirable point of sale (retail locations)
4. Better client relationships and keep direct link with customer.

Balance Investment with Expected Returns

But these benefits are impeded by high investments which require shareholder buy in which is typically not forthcoming since higher returns/profits are not totally apparent when volumes (very visible to shareholders) are compromised. But controlled volumes and scarcity is a key luxury strategy and such capital investments must be seen from a long term perspective.

Typically reducing (buying out) total distribution by licenses by X% will increase net profits by 2 X% over a 5 year period. This is of course assuming everything is executed perfectly since the ball can roll either ways. For example Ralph Lauren decided on taking back distribution by buying out its licensees in Japan and France from the years 2002 onwards. The net profits increased from $172million in 2002 to $845 million in 2011 with Ralph Lauren boutiques almost completely taking over distribution from licensees. YSL on the other hand launching a similar strategy is still struggling to get its figures into fashionable black rather than gauche red!

Economies of Scale and Luxury

Economies of scale has been a marked feature of cost reduction in supply chains. A BCG study indicates that a doubling of production results in a 30% reduction in Cost of Goods Sold (COGS) which shows up in a similar increase in gross profits. Economies of scale would mean following strategies of consolidating production in a single or few locations, using techniques of mass production, automation, bulk sourcing etc. However increasing production implies a corresponding increase in sales to justify the increase in investment to set up production and logistics facilities. A good barometer of the extent to which economies of scale can be pursued would be the Return On Investment (ROI) for setting up facilities and supply chains. A positive ROI greater than cost of capital will be a sign of success in going ahead with the strategy.

In the case of luxury goods, an additional complexity in terms of volume or markets is introduced. For example, what is the sales or market penetration that the brand is comfortable with?  A flooding of the market with increased sales would simply run counter to the brand's perceived value. Hence this imposes a natural limit to the economies of scale a particular luxury brand can support. Typically doubling of production for instance for a 30% reduction in costs is not tenable for most luxury brands (other than fragrances).

Similarly another natural limit is the concept of location or origin. Economies of scale cannot be provided by moving production away from the brand's orgin (Champagne from Champagne in France) at the risk of loosing its luxury status. Also there will be a limitation to increasing the headcounts in these brand origin locations (number of artisans available in Italy for instance).

A good takeaway would be that for SCMluxe, economies of scale must be pursued upto a point where:

1. Sales volumes are in line with the brand and marketing plan for the product
2. The location of the brand can support the production both in terms of artisans and production facilities
3. There is a high ROI on the proposed investments

The ROI, though applicable for industrialized goods as well, needs to be much higher for luxury goods. This is to enable the longer gestation period, smaller volumes, higher manual effort required and greater risks that are typical of the luxury goods industry